Motley Fool: Don't view your home as an investment

Q: Why would a stock end a trading day at one price and then begin trading the next morning at a very different one?

— C.D., Ocala, Florida

A: Maybe there was a stock split, or some news or rumors emerged after the market closed. Perhaps the company is being bought out, or maybe it reported surprisingly good or bad earnings. Such developments can cause buy or sell orders to pile up overnight, resulting in big overnight price moves. Stock prices simply reflect supply and demand. If many are selling, the price drops — and vice versa. After-hours trading is another factor, as it has grown in popularity.

Q: How does stock ownership work? If I own 5 percent of a company’s stock and the company earns $100 million, do I get 5 percent of that, or $5 million?

— M.H., Saginaw, Michigan

A: Not exactly. If you own stock in a public company, you do own a real chunk of it, though usually a tiny one. But its earnings aren’t automatically distributed to its owners.

Companies have choices regarding their earnings. For example, they might pay some out to shareholders as dividends, or pay down debt, or reinvest in the business by building factories, hiring more workers, buying advertising and so on. They may also buy back some of their stock or buy another company, or simply bank the money, waiting for opportunities.

All these options can reward shareholders, sometimes even more powerfully than if the money were just distributed as dividends. Buying back (and essentially canceling, or retiring) shares, for example, boosts the value of the remaining shares. Reinvesting in the business can result in a bigger, more profitable company — with higher earnings.

Fool’s School

Don’t view home as an investment

Some Americans believe that buying their own house is the best and smartest investment they’ll ever make. It can be a smart move, but it’s often not a smart investment.

For one thing, though certain locations at certain times will be exceptions, in general, homes don’t grow in value very quickly. And some housing markets crash and remain low for many years.

According to a recent Washington Post piece, “Over the past century, housing prices have grown at a compound annual rate of just 0.3? percent once one adjusts for inflation (per data from economist Robert Shiller). ... Over the same period, the Standard & Poor’s 500-stock index has had comparable annual returns of about 6.5 percent (also adjusted for inflation).”

Most Treasury bonds, which are ultra-low-risk, beat that housing growth rate, too. Clearly, your money is likely to grow more sitting in stocks or bonds.

Also, a home is not very liquid: If you need to sell it quickly, you may not be able to do so without accepting a low price. It doesn’t always hold its value well, either, as fashions change. Think of wood paneling going out of style, and two-car garages growing in popularity over one-car garages.

Owning a home can make it hard to build wealth, as you pay a lot in interest over the length of your mortgage and also have to maintain and repair the home. There are property taxes and insurance costs, too.

If a home isn’t an investment, what is it? Well, it’s a place to live and a roof over your head. Renting can be a sensible move, perhaps permitting you to sock away more money in your retirement accounts. But by buying a home, you can, ideally, build some equity over time.

So buy a home to have a comfortable place to live and maybe raise a family. Just don’t expect it to make you wealthy. To make money in real estate, consider investment/rental properties, but only if you know what you’re doing and have the stomach to be a landlord.

My Dumbest Investment

Groupon clipping

My dumbest investment was buying shares of Groupon at its 2011 initial public offering (IPO), for close to $20 apiece. They’re near $5 now, and I’m still waiting for them to get back to my purchase price.

— S., online

The Fool responds: The story of Groupon is similar to many other companies that have debuted on the stock market via IPOs. It went public with a lot of buzz, and shares quickly rose into the mid-$20s. A year later, though, shares were near $4. The stock has recently been trading around $6. What went wrong?

Well, the company has yet to turn a profit. It has no sustainable competitive advantage, as its daily deal concept is fairly easy for others to copy, and deal-seekers have little loyalty to it. Its business model is problematic, too, requiring lots of salespeople to get local businesses to offer Groupons.

With IPOs and all stocks, be sure you understand how the company is going to prosper. And if you’re underwater on a stock you no longer believe in, sell and move the money that’s left to a more promising investment.

Foolish Trivia

Name that company

I trace my roots back to 1902 and the purchase of the Pittsburgh Testing Laboratories’ stockroom. My first offerings included microscopes and balances, and I published my first catalog in 1904. Today, based in Massachusetts, I’m the global leader in serving science — accelerating life sciences research, solving complex analytical challenges, improving patient diagnostics and increasing laboratory productivity. My products and services range from beakers and flasks to diagnostic test kits and chemicals to mass spectrometers and fume hoods. I rake in more than $13 billion annually and employ about 50,000 people in 50 countries. Who am I?

Last week’s trivia answer

I was created in 1930, but some of my businesses were making margarine, soap and soup tablets back in the 1800s. Today I’m a global giant; more than 2 billion people use my products daily in more than 190 nations. My brands include Lipton, Knorr, Dove, Hellmann’s, Vaseline, Brylcreem, Close Up, TRESemm, Ben & Jerry’s, Omo, Surf, Good Humor, Klondike, Q-tips, Popsicle and Slim-Fast. (I’m slimming down, and sold Wish Bone and Skippy.) Many of my brands have annual sales topping 1 billion euros. I employ more than 170,000 people, and 42 percent of my managers are women. Who am I? (Answer: Unilever)

The Motley Fool Take

Calling on cash flow

There’s a good chance you’re already its customer, but you might want to be a shareholder, too. Verizon Communications (NYSE: VZ) is a telecommunications giant, offering prodigious free cash flow, a generous dividend yield (recently near 4.3 percent) and an attractive valuation.

It has a strong brand name and competitive advantages that keep rivals at bay. Providing nationwide cable, Internet and phone service is nearly impossible for newcomers due to the extremely high costs of building out a network. This means barriers to entry are very high, resulting in reliable profits. Indeed, Verizon generates more than $20 billion in free cash flow annually. It distributed nearly $6 billion in dividends to shareholders last year, and has been upping its payout annually for years.

In addition, Verizon has a clear catalyst for continued future growth, thanks to its highly profitable Verizon Wireless business, which is the largest and most profitable wireless carrier in the United States. In its last reported quarter, Verizon Wireless increased service revenue by 7.5 percent, outpacing the overall company’s 4.8 percent revenue growth. The wireless business should provide plenty of cash flow to support the company’s hefty dividend for a long time.

With its steady growth and a price-to-earnings (P/E) ratio recently near 11 (well below the S&P 500’s 18), Verizon stock is compellingly priced and worth considering.